How do personal loans work?


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If you need to borrow money, you might consider using a personal loan. But how do personal loans work? Before taking out a personal loan, find out how it works and how to find the best one.

In this post:

How personal loans work

A Personal loan is a fixed amount of money that you borrow from a financial institution – such as a bank, credit union, or online lender – that you agree to repay over a period of time with interest. These are usually unsecured loans, which means that you don’t have to provide anything as collateral to get your loan. Instead, your credit score, income, and other factors determine if you qualify and what your interest rate will be.

Before you borrow money, however, you should consider the following:

  • Will you be qualified? Each lender has their own requirements to qualify for a personal loan. But what they’re generally looking for are borrowers who have a stable income and a good credit history (or a borrower with a co-signer who meets these conditions).
  • What rates can we expect? The terms and rates vary depending on the lender and how you plan to use your personal loan. Eligibility for a lower interest rate offered by a lender depends on your online application, credit approval and score, loan terms, and other factors. But with Credible, you can compare multiple loan offers to find the right lender for you.
  • Are there any fees? Many personal loans have origination fees, and some lenders may even charge late payment fees. Make sure you do your research so you know exactly how much the loan will cost you.
  • How long will it take to get funds? Once you are approved for a personal loan, your lender will ask you for banking information to transfer the money to your bank account. Some lenders do this by as little as a day, but some can take a few days to a week to clear.

Learn more: What is a personal loan?

How to apply for a personal loan

When you are ready to get a personal loan, make sure you are financially prepared to pay it back. Here’s how to prepare before applying for a personal loan:

  1. Check your credit. Before you withdraw money, take a look at your credit report and credit rating to see if you may qualify for a personal loan and get a low interest rate.
  2. Compare lenders. Many lenders have their own qualification conditions, which means you will need to review them before you apply for the one of your choice. It’s also a good idea to compare them so that you can find the best lender (and loan) for your situation.
  3. Look for ways to save. Find out which lenders have the lowest fees. Also check to see if your lender offers discounts. For example, some lenders may offer an offer if you set up automatic payments, where your monthly payment is deducted from your bank account each month.
  4. Borrow only what you need. Try to avoid borrowing too much money or taking out a loan for more than you really need. If you do, it just means you’ll pay off more interest over time. Use our personal loan calculator to estimate what your payments might look like.

Compare loan rates

Once you get approved, the money can be transferred to your checking account or savings account anywhere from a day to a week, depending on your lender. Once you have the money in your account, you can usually use it however you want.

You will repay your loan in installments each month and once the loan is fully paid off, the account is closed. This type of loan is also known as an installment loan.

To verify: The best personal loan lenders

What can you use a personal loan for?

While you can usually use a personal loan for anything you want, here are a few reasons why you might need it:

  • Debt Consolidation: A debt consolidation loan This is when you use a personal loan to pay multiple bills at once (like high interest credit card debt) and then pay off your personal loan in installments each month.
  • Home improvement projects: Whether you have huge renovations or minor repairs, a personal loan can give you exactly what you need to make those changes possible. Make sure you compare a personal loan to a home equity loan before applying.
  • The great events of life: To marry, expanding your family, or putting a loved one to rest can be expensive. Use the money from a personal loan so that you can pay for the big changes you expect or not.

See: More personal loan uses

As long as you do your research beforehand, a personal loan is a saving grace when you are in a bind. Especially since their interest rates are generally lower than those of a credit card.

It’s important to get the best credit score possible, compare different repayment terms, and adjust your budget so you can make payments on time every month. If you need help qualifying, try find a co-signer.

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About the Author

Dori Zinn

Dori Zinn is a student loan authority and a contributor to Credible. His work has been published in Huffington Post, Bankate, Inc, Quartz, and more.

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